Introducing Diversified
Fixed Interest ...

Mutiple Sources of Added Value

Diversified fixed interest (DFI) portfolios provide investors with the opportunity to invest in a wide range of fixed interest markets and securities. A typical DFI portfolio will provide investors with exposure to the following fixed interest markets:

This concept, within a DFI portfolio, is important at both the asset allocation and the sector level. Within DFI portfolios added value can be derived from a variety of sources, including yield curve positioning, asset allocation, duration, sector selection, credit management, Australian swap-bond spread, volitility, country selection, currency management and stock.

The chart shows the multiple sources of value adding that we target within these portfolios. Overall, there are 21 distinct sources. This approach delivers a more consistent and stable return profile than portfolios that target only one or two sources. That is, for a given level of return our portfolios aim to exhibit a lower volatility.

The benefits of DFI portfolios have over recent times been extended to more tailored DFI mandates. When considering DFI, it is important to note that each sector has different risk and return characteristics. In practice investors are able to choose which of these markets they wish to invest in and in what proportion.

Over recent times we have witnessed a trend to include a component of passive fixed interest within the DFI portfolio, both to reduce cost and to minimise the benchmark risk in the portfolio. This has led to a number of portfolios comprising, for example, passive Australian fixed interest, active overseas fixed interest, active credit management, cash, and active asset allocation.

The ability for clients to tailor a DFI portfolio to meet their specific investment needs, even for small portfolios, is an important trend in the market place. As a manager offering expertise and investment pools across the full spectrum of interest rate securities, County is uniquely placed in the Australia market to implement these structures for our clients.

Asset Allocation

Within a DFI portfolio, asset allocation is an important source of value added, and can also have an impact on total portfolio risk. Any active asset allocation position away from the benchmark introduces risk or tracking error into the portfolio. This risk is taken in the expectation of adding value to the total portfolio. Asset allocation is therefore a critical component of any DFI portfolio due to its impact on the risk profile of the portfolio.

Different asset allocation decisions expose the portfolio to differing levels of tracking error. For this reason when considering any asset allocation decision, our process starts by considering those decisions that introduce the most tracking error to the portfolio, and we then work down in descending order. The first asset allocation decision we make is the domestic - international allocation as the tracking error between these two markets is the greatest. Conversely the allocation between Australian nominal fixed interest and credit is the last asset allocation decision, as the tracking error between these two markets has the smallest impact on the overall portfolio risk.

Summary

DFI portfolios provides investors with exposure to a range of fixed interest markets and securities that may not normally be accessed within a standard fixed interest portfolio. It is an important and viable approach for clients to manage their fixed interest assets. The ability to tailor a DFI portfolio to meet the specific investment needs of clients is a key feature of the market that provides significant benefits to our clients.